Yi Whan-woo is a Korea Times journalist primarily covering finance. He writes in-depth articles on macroeconomy and financial markets and previously covered sports, politics, diplomacy and inter-Korean affairs, among others. Feel free to contact him at yistory@koreatimes.co.kr.
Why is rate cut unlikely in August despite economic contraction?
Customers shop for fruits at a supermarket in Seoul, July 2. Yonhap
By Yi Whan-woo
Korea's second-quarter economic contraction is fueling speculation that the Bank of Korea (BOK) will continue to keep the benchmark interest rate unchanged to lower inflation at an accelerated pace.
Analysts said Sunday that inflation, although slowing to an 11-month low of 2.4 percent last month, is still high enough to put pressure on consumers and weaken spending.
Citing the BOK, analysts highlighted that the contraction of the Korean economy in the second quarter was primarily driven by weakened private spending.
The BOK's preliminary data last week showed that private spending, a twin-engine of growth, shrank 0.2 percent quarter-on-quarter in the April to June period.
On the other hand, exports, another growth driver, gained 0.9 percent quarter-on-quarter during the same period.
Accordingly, the country's GDP contracted 0.2 percent quarter-on-quarter, compared to a 1.3 percent expansion in the January to March period.
"It is partly true that economic contraction comes from a high base effect in the first quarter, but even so, staggering private spending and economic contraction definitely add to concerns over growth in the remainder of 2024," Hana Securities analyst Jeon Kyu-yeon said.
The analyst said that fiscal and monetary policymakers will be urged to adopt measures that can better tackle barriers to growth, including inflation.
"In that regard, it will be a fair game for the BOK to keep the key interest rate steady in its next monetary policy board meeting in August."
Hanwha Investment & Securities analyst Kim Sung-soo voiced a similar view, noting the Ministry of Economy and Finance believes that inflation may temporarily bounce back in summer due to heavy rain and price hikes in fresh produce.
"Under the circumstances, I'd say persistent inflation is negatively affecting households more than the high interest rate," Kim said, noting the loans taken out by households remain high although the BOK's policy rate has stood at 3.5 percent since January 2023.
Such a rate is the highest since December 2008, which stood at 4 percent.
Market observers also believe that a possible rate cut may widen the record U.S.-Korea rate gap at 2 percent. A widened gap comes with the possibility of further depreciation of the Korean won's value against the U.S. dollar and price increases in manufacturing costs and finished goods.
"Whether the BOK can go ahead with the rate cut will depend on U.S. monetary policy in order to not worsen upward inflationary pressure," Jeon said.
Meanwhile, the BOK has three remaining monetary policy board meetings this year, on Aug. 22, Oct. 11 and Nov. 28.